CalPERS' emerging markets blacklist

Pressure mounts to revise new country investment policy

By

BillClifford

TOKYO (CBS.MW) -- Two months after U.S. pension fund giant CalPERS decided to pull out of certain Southeast Asian countries that don't meet its new investment guidelines, the search is on for some wiggle room in what some see as a politically correct straitjacket.

Three of four new emerging markets managers for the California Public Employees' Retirement System would buy stocks of prohibited countries that trade on the exchanges of permissible countries, if allowed to do so, according to CalPERS' latest investment committee agenda.

Senior officers of CalPERS noted that allowing investment in the American depositary receipts and global depositary receipts of companies from blacklisted countries "would result in a less risky portfolio for a given level of return."

At the committee's monthly meeting Monday, officers sought clarification for the first time on the eligibility of ADRs, GDRs and other overseas-listed equities of countries prohibited by CalPERS.

In a highly controversial decision on Feb. 19, the Calipers panel said the $151 billion pension fund would stop investing in Indonesia, Malaysia, the Philippines and Thailand because those countries had failed to meet its stricter criteria, such as trading liquidity, market regulation and government stability.

Morality play

Amid growing calls for better corporate governance because of Enron
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and other scandals in the U.S. and around the world, Calipers claimed in a statement at the time that its country policy review was "the first of its kind ever done by a public pension plan that looks beyond traditional economic factors and considers basic democratic principles."

Top government officials from the affected Southeast Asian nations and several market analysts in the region criticized the morality move, not least because CalPERS had its own Enron entanglements.

"Welcome to the era of PC (politically correct) investing," Christopher Wood, emerging markets equity strategist at CLSA in Hong Kong, wrote in an Asian Wall Street Journal op-ed piece in early March.

"It is America and its Anglo-Saxon appendages, not Asia, which have for so long piously claimed transparency and other forms of 'best practice,'" Wood noted. "The hypocrisy is as breathtaking as the financial markets' ultimate verdict will be crushing."

Indonesia's main stock index has surged 37.6 percent this year, and Thailand's SET is up 25 percent. Trailing closely behind these top performing Asian markets are Malaysian and Philippine composite indexes, both notching double-digit percentage gains.

Yet the four were added to CalPERS' previous list of 10 excluded countries, while Hungary and Poland joined its list of permissible emerging markets, which includes 11 other countries. The lists apply to CalPERS' "active" all-world and regional international equity managers, its "passive" current all-world equity index fund manager, and newly hired "active" emerging markets managers.

"The elimination of some countries and the addition of others to CalPERS' permissible country equity list will result in transaction costs," wrote three CalPERS executive officers, in their agenda memo to the investment committee.

The panel also considered the comments of four investment firms hired in January to manage $1 billion of emerging markets assets. In a shift away from a passive index-tracking style of investing, CalPERS chose Alliance Bernstein of New York, Genesis Asset Managers of London, Capital Guardian Trust of Los Angeles and Dimensional Fund Advisors of Santa Monica, California.

Managers' musings

Three of these managers said they would purchase ADRs, GDRs and other overseas-listed equities of companies from prohibited countries, if CalPERS allowed them to do so.

The portfolios of Alliance Bernstein, Genesis and Capital Guardian would give CalPERS exposure to companies which hail from excluded countries of China, Egypt, India, Indonesia, Malaysia, the Philippines, Russia, and Venezuela, but which also trade on the exchanges of permissible countries.

None of the three managers said they require exposure to overseas-listed shares of otherwise prohibited companies to implement their portfolio strategy. But such investments would help reduce portfolio volatility and risk for a given level of return, said one fund manager, which CalPERS did not identify.

This fund manager suggested that good corporations in emerging markets should not be hit with blanket sanctions for problems at the country level beyond their control.

"For example, no single Indian company is in a position to change India's low rating on productive labor practices," this person said. "However, some Indian companies do treat their workers well. Allowing investment in stocks listed in permissible countries creates a way for CalPERS to recognize the good corporate citizens in non-permissible countries."

In contrast, Dimensional Fund Advisors, as part of its own investment policy, chooses not to invest in ADRs or GDRs, but only in shares listed on the local markets of approved countries. It said the securities of companies whose countries in which CalPERS refuses to invest do not in any event offer adequate diversification and liquidity. See CalPERS' summary of comments of international equity managers.

There was no indication from the investment committee or its officers as to when clarification of CalPERS' permissible country equity policy would be forthcoming. The committee's next meeting is scheduled for May 13.

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